Are Angel Investors Heaven-Sent?

When former venture capitalist Alicia Morga started her own business last summer, she didn't turn to her VC colleagues for funding. Instead, she tapped angel networks--groups of wealthy individuals who join forces to invest in startups. While venture capitalists manage other peoples' money, angels invest their own and generally seek smaller deals.

They seek fees, too. One network heard about Morga's firm--Consorte Media, which connects financial-service companies with Spanish-speaking customers--and suggested she apply for funding. After reviewing her application, they invited her to make a formal presentation.

That's when they mentioned the $750 fee. Morga balked. Back in her VC days, she rarely wasted her time attending events if entrepreneurs had to pay to participate. "It's usually the less stellar companies that end up paying," Morga says. So she kept digging around for a good fit. Six months later, she struck a deal with the Band of Angels, a well-known Silicon Valley group that doesn't charge presentation fees.

Angel networks aren't new, of course. Informal cadres of money men have long pooled resources to bet on the next
Microsoft
or
Google
. Last year, angels invested $23.1 billion in startups, according to the Center for Venture Research at the University of New Hampshire.

Now some of those loosely formed groups are evolving into highly structured organizations, with paid staffs, nifty Web sites and formal application processes. There's no way to know how much of that $23 billion came from these formal networks, but the number is probably less than 30%, estimates CVR Director Jeffrey Sohl.

Some networks self-fund solely through investors' membership fees. Others whack entrepreneurs with cover charges to get past the velvet rope. The Angel Capital Association, a trade group, surveyed 66 networks about their business models and found that about one-third charge entrepreneurs to apply, present or both. Fees start around $125, which isn't a problem for most entrepreneurs. But some groups charge much more.

The most well-known, perhaps, is the Keiretsu Forum, a nationwide network with 500 investors. Each of Keiretsu's 12 chapters holds a monthly forum, charging entrepreneurs around $1,000 to $3,000 to present.

The big question for cash-poor small fries: Are the networks worth the price of admission? "If you have a dollar, where do you put it?" says Amy Millman, president of Springboard Enterprises, which helps female-owned startups find funding. "I'm not sure I would put it in an angel network."

She has a point. For starters, while more angels are joining networks, many aren't doing any actual investing. In 2005, 62.3% of angel-group members were "latent"--meaning they hadn't done a deal in 12 months. That's up from 48% in 2003. And informal groups that don't charge fees tend to do more deals than the structured outfits with paid employees, says Sohl.

Then there's the time-consuming application process, which might include a rigorous written application, phone interview and "prescreening" meeting. "Afterward, you often feel it was time wasted," says Greg Berkin, founder of Think Digital, a film-production company. Berkin has raised several million dollars for three-year-old Think, but none of that came from the half-dozen angel networks he pitched. "I just did not find it a very effective system," he says.

Worse, the irksome presentation fee often wasn't disclosed until the last minute--after he had suffered through the application process. If that weren't enough, some of those networks tried funneling him to pesky consultants who offered services in exchange for cash or equity.

And just because you get an audience with a network doesn't mean you'll score. Those that don't land funding might get feedback on what needs fixing. Then again, they might not.

The lesson here is not to reject fee-seeking networks out of hand. Rather, make sure you are getting something for your money.

Randy Williams, Keiretsu's founder and chief executive, insists that entrepreneurs get what they pay for. At Keiretsu's three Northern California chapters, about 100 entrepreneurs apply for funding every month. Of those, four or five make it to the presentation round. Those lucky few then pay $3,000 each for the opportunity to pitch 350 investors at a three-day event. After a lengthy discussion, Keiretsu members generally invest in two or three of the survivors. Losers get a detailed scorecard outlining why they fell short.

Says Williams, "What is it going to cost you to buy 300 investors coffee? We deliver results."

Dan Connors, founder of videogame maker Telltale Games, would agree. Connors spent a whopping $10,000 presenting to five Keiretsu chapters last fall. He managed to raise about $300,000 and also snared some valuable expertise in the process. One Keiretsu member has helped him with marketing, another with patent law. "They're all entrepreneurs. And a lot of them have done it before," Connors says. "That's one of the benefits I didn't expect."

Other entrepreneurs, like Lois Landau, aren't nearly as enamored. Landau's company develops software that personalizes direct-marketing campaigns. She was hesitant to pay $3,000 to make her pitch at the Keiretsu Forum. When she pressed a Keiretsu member about her chances of funding, based simply on her initial application and prescreening, he assured her that several members were interested in investing.

After the $3,000 presentation, however, Landau heard nothing. Later she learned that Keiretsu members didn't think she could attract national customers. (Her company, Reach Communications, has since attracted several national clients, including GMAC.)

Landau also learned perhaps the most important lesson about angel networks: "It's all about relationships. I didn't have a strong enough relationship with individuals in that group."